Oct 31 (Reuters) – Below are key quotes from an appearance by Bank of Canada Governor Mark Carney on Wednesday in Ottawa:

ON REASONS FOR ACCOMMODATIVE MONETARY POLICY:

“As we’ve been discussing there are a lot of headwinds against the Canadian economy from the rest of the world. There’s a challenge to encourage business to invest. There are pressures on the currency. There are a variety of reasons why it’s advantageous to have very accommodative monetary policy and that’s what we have here in Canada, very accommodative monetary policy. And monetary policy consistent with that 2 percent inflation target.”

ON HOUSING MARKET ADJUSTMENT:

“We’re getting some mixed signs in terms of the evolution of household imbalances. There’s been a slowing in the rate of growth in debt that is notable, we think that is continuing as we speak. There has been signs of adjustment in the housing market itself in various pockets … the condo market is still pretty hot. The other housing markets are adjusting and so we with others are continuing to watch the situation and be vigilant and will respond as appropriate.”

ON STRENGTH OF THE CANADIAN DOLLAR:

“Despite the very considerable headwinds that this economy faces from abroad, weakness in the United States one example, weakness in Europe another obvious example, the strength of our Canadian dollar which is related to that, we continue to grow and our expectation is that we will over the course of the next year take up the remaining amount of slack gradually.”

ON GOVERNMENT BONDS AND MORTGAGE RATES:

“The other risk that individuals have to take into account is not necessarily a bet on where Bank of Canada policy goes, exclusively, because  the mortgage rate obviously is a product of where the bond market goes and well we’re all familiar with how low government bond rates are on a global basis. There are scenarios where there could be an increase over time in government bond rates, not because of monetary policy but because of just the sheer level of borrowing and uncertainty that develop on a global scale about the sustainability, so a credit premium coming into those bonds, and so that would also affect mortgage rates as well over time.”

ON LIMITING THE SIZE OF CANADIAN BANKS

“If the question is should we, is our view that we should have a specific cap on size in Canada, the answer would be no. Do we have a cap on size in Canada? The answer is no. But is there a competition policy in Canada, are there other financial stability considerations? The answer of course is yes. And do those effectively limit the degree of concentration and size? Yes, certainly in terms of concentration and mergers, with the ultimate responsibility being held by the minister of finance.”

ON BANKS BEING “TOO BIG TO FAIL”

“There are two broader issues for a country like Canada that need to be considered. The first is relative size of the financial sector versus the economy as a whole  we don’t think this is the case in Canada but there were other economies in the world where the size of their financial sector was multiples of their GDP.”

“Every economy has to think about this question of ending too big to fail, and ending the perception of too big to fail and … ending too big to fail is central to the agenda of the Financial Stability Board and by extension to Canada as a whole. There’s a variety of mechanisms or policies that are necessary to do that.”

ON RISK OF HIGH DEBT-TO-INCOME RATIO

“When you’re in a situation, as we are, where debt as a whole is very high relative to income in the economy, the possibility of procyclicality happening when there is a shock to the economy, so there is a shock, unemployment goes up, some people start to be unable to service their mortgage for obvious reasons, that starts to hit house prices. That reduces the willingness of people to buy houses. At the moment they hold back as prices move down, and there is less activity in the housing sector, there’s more unemployment. These types of procyclicalities can cause the problem. It’s one of the reasons why we obviously focus on the debt side and the liquidity and the ability to service that debt side on a variety of circumstances. All that said, our warnings about this issue are driven from a position of the country and officials and individuals being able to do something about it. The horse is not out of the barn.”

Bank of Canada maintains overnight rate target at 1 per cent

Ottawa, Ontario –

The Bank of Canada today announced that it is maintaining its target for the overnight rate at 1 per cent. The Bank Rate is correspondingly 1 1/4 per cent and the deposit rate is 3/4 per cent.

Global growth prospects are unfolding largely as the Bank projected in its July Monetary Policy Report (MPR), with a widespread slowing of activity across advanced and emerging economies. The economic expansion in the United States continues at a gradual pace. Europe is in recession and its crisis, while contained, remains acute. In China and other major emerging economies, growth is decelerating somewhat more quickly than expected from previously-rapid rates, reflecting past policy tightening, weaker external demand, and the challenges of rebalancing towards domestic sources of growth. Notwithstanding the slower global momentum, prices for oil and other commodities produced by Canada have, on average, increased since July.

In Canada, while global headwinds continue to restrain economic activity, underlying momentum remains at a pace roughly in line with the economy’s production potential. Economic growth is expected to pick up through 2013, with consumption and business investment continuing to be its principal drivers, reflecting very stimulative financial conditions. Business investment remains solid. There are tentative signs of slowing in household spending, although the household debt burden continues to rise. Canadian exports are projected to remain below their pre-recession peak until the beginning of 2014, reflecting the dynamics of foreign demand and ongoing competitiveness challenges, including the persistent strength of the Canadian dollar.

Core inflation has been softer than expected in recent months but, with the economy operating near its production potential, it is expected to return, along with total CPI inflation, to 2 per cent over the course of the next 12 months.

Reflecting all of these factors, the Bank has decided to maintain the target for the overnight rate at 1 per cent. To the extent that the economic expansion continues and the current excess supply in the economy is gradually absorbed, some modest withdrawal of the present considerable monetary policy stimulus may become appropriate, consistent with achieving the 2 per cent inflation target over the medium term. The timing and degree of any such withdrawal will be weighed carefully against domestic and global economic developments.

Mortgage debates used to centre around whether to go fixed or variable but the discussion these days is not whether to lock in a rate but for how long?

Variable rate mortgages have slumped in popularity over the last few months as discounts off of the 3% prime rate are either shrinking or disappearing. At the same time, financial institutions have dropped rates to as low as 2.99% for terms as long as four or five years.

But there is a new entrant to the marketplace — the 10-year mortgage. The Canadian Association of Accredited Mortgage Professionals says 10-year mortgages are about 1% of the marketplace but that may change as rates for the decade-long term have dropped to an all-time low with some lenders said to be offering an interest rate of 3.84%.

The choice is ultimately a personal decision and highly dependent on your risk tolerance. While variable represents the most risk, given its floating rate nature, the 10-year represents the ultimate in security coming with the heaviest insurance premium — albeit with a much lower cost these days.

One key factor about the 10-year that people forget is that under Canadian law you can only be forced to pay three months interest, after five years, to break a mortgage. That’s a much lower penalty than the interest rate differential which can be in the tens of thousands of dollars.

Personally, I’m going to go with the five-year model. I like the 2.99% rate offered these days and even if it comes with restrictions like a 25-year amortization, you’ll end up paying your mortgage down faster.

You could face limits on prepayment terms of 10% of the mortgage per year but if you have say a $500,000 mortgage what are the odds you’ll have more than $50,000 kicking around? You only increase monthly payments by 10% but odds are that will be enough for most people.

If you do choose a 10-year mortgage, one issue to consider is how portable that mortgage is should you want to sell or move. You might also ask if it’s assumable by the buyer because if rates do go up, and you want to sell your home, a cheap mortgage could become a marketable commodity.

The Financial Post asked several people in the industry to pick between a five-year and 10-year mortgage. Here are their opinions:

Brian Johnston, president of home builder Monarch Corp., says he’d go for the 10-year product. He’d opt for the same length for commercial money too.

“If I could get a 10-year at 4%, I would take that all day long. I said to my wife ‘let’s just go get a mortgage’ and she said ‘we don’t need a mortgage.’ I said ‘it’s 10-year at 4%.’ Interest rates will go up, we all know that, we just don’t know when. Give me 10 years and I think I’ll get it right,” says Mr. Johnston. “It’s unheard of to lock in money for 10 years at these rates. It’s not going to last long.”

Ted Rechtshaffen, certified financial planner with TriDelta Financial, says he just had the debate with a client and, based on his math, if you think rates are going to be higher than 4.7% in five years you should lock in for the 10.

“If you can do a five-year mortgage at 3.14% or a 10-year at 3.89%, the renewal rate is going to have to be lower than 4.7% for you to be mathematically better off doing five years as opposed to 10,” says Mr. Rechtshaffen. “It’s not going to take a lot to get to 4.7% in five years, that’s a historically low rate. I would suggest the odds are good you are going to have a mortgage rate that is 5% plus. My client was also asking about investment property and, to be able to lock up the investment rate risk for 10 years, that has considerable value.”

John S. Andrew, adjunct assistant professor at Queen’s University’s School of Urban & Regional Planning & School of Business
Queen’s University, is leaning towards the 10-year.

“I’m biased towards the 10 just because I think rates are going to up considerably in that sort of time frame,” says Mr. Andrew. “The only reason I would say don’t go for 10 is in the rare circumstance where someone is going to pay down their mortgage in less than 10 years. For most people, the lifespan of the mortgage is going to be more than 10 years. We know these are historically low rates. Even though you are paying more for the 10-year than the five, it is going to prove to be a really good deal and why not lock in it for as long as possible. It’s going to look like a sweet deal by year three.”

Doug Porter, deputy chief economist with Bank of Montreal, says it’s a close call but he’s leaning towards a five-year mortgage.

“It’s a tight decision between the five and the 10. They are both exceptional offers. Purely as an economist, I have a gone through what we would have to assume for the Bank of Canada on medium term rates and it’s a close call. For someone who does have a lot of financial flexibility, that certainty is a good thing. There is an outside risk the global economy could be hit with an inflation check in the next 10 years given the huge amount of government debt outstanding and today’s rates will look laughingly low. Based on a traditional outlook, the five is slightly superior.”

Vince Gaetano, principal at Monster Mortgage and a long-time proponent of variable rate mortgage rates, is a convert to the 10-year.

“The product itself is no longer just a product, it’s a plan and a strategy to get rid of debt,” says Mr. Gaetano. “People should strongly consider taking on a 10-year product, especially individuals maturing from the 2007 market and who are coming out of 5.1% to 5.7% products. Keep your payments based on the same rate and take a 10-year and your mortgage will drop in half by the end of the term.”

Jamie Golombek, managing director of tax and estate planning with CIBC Private Wealth Management,. says he would go five years.

“While there is potential for interest rates to rise over the five-year term of the mortgage, they would have to rise significantly for me to have been better off potentially overpaying during the first five years of a ten year term. That being said, choosing the ten year rate is essentially buying insurance and peace of mind, which is a valid option for many Canadians,” says Mr. Golombek.

Farhaneh Haque, director of mortgage advice and real estate-secured lending at Toronto-Dominion Bank sounded a little torn on choosing between the two terms.

“You have to understand whether that home is something you are going to look to live in for the long haul,” says Ms. Haque. “The rates are in your favour if you want to live somewhere for the long haul and you want to budget around your income. The 10-year could make sense. If you feel you are going to be moving and your life may be changing, you consider the five-year.”

Michael Polzler, executive vice-president, RE/MAX Ontario-Atlantic Canada, didn’t pick between the two but says long-term mortgages have taken over the market.

“While variable rate financing has been the favourite child of real estate consumers to date, longer term, locked-in mortgages can provide greater peace of mind for homebuyers who can’t afford an upward spike,” said Mr. Polzler. “Today’s five and 10-year closed terms, available at unprecedented rates, are ideal for purchasers who want the security of a fixed monthly payment. For those considering this option, the timing has never been better.”

Moshe Milvesky, professor at York University, think the ultimate question of whether to go five or 10 years needs to considered in the light of your overall finances.

“In these extraordinary economic times, I believe that history is less relevant for the purpose of forecasting or projecting future interest rates. Indeed, the volatility of short-term rates in the last few years has been close to zero. But it would be ridiculous to extrapolate that volatility is dead. If anything, the risk of a ‘pop’ in rates is ever growing,” says Mr. Milevsky. “I believe that Canadians should first and foremost take a comprehensive approach to what I like to call ‘debt allocation.’ The type of debt you take, its maturity, quantity and flexibility should be determined in conjunction with the rest of your personal balance sheet. Period.”

Mortgage rates have nowhere to go but up

Garry Marr Mar 27, 2012 – 7:22 PM ET | Last Updated: Mar 27, 2012 7:33 PM ET

The logic is pretty simple. You hit rock bottom and there is no where else to go but up.

Mortgage rates on terms of five years and 10 years have never been this low. You can go back 50 years and not find a rate of 2.99% from one of the major banks for a fixed-rate product for five years. The 10-year, an almost unheard of length for most Canadians to commit to, has touched down at below 4%.

Even sticking it out with a variable-rate product linked to the prime lending rate still looks pretty good with most major financial institutions offering some type of discount off their 3% floating rate.

Already there are signs rates could be on the increase. The bond market — which mortgage rates are based on — has been rising fast and the big banks say their most recent specials will come to an end this week. But even with a 50 basis point increase, a five-year fixed closed mortgage of 3.5% is almost unheard of historically.

“Everybody is looking at the bottom here and thinking, ‘When are rates going to go up?’” says Kelvin Mangaroo, president of RateSupermarket.ca which produces a monthly forecast from leaders in the mortgage industry.

Even among the experts, few foresaw this price war in the mortgage sector. “With the big banks getting very aggressive again, it took a lot of people by surprise,” said Mr. Mangaroo. “I think people were thinking the status quo would hold for a while.”

He says the last Bank of Canada announcement about the economy had people thinking at some point the overnight lending rate, which impacts the prime lending rate, would go up, but not this year.

“Now that people are thinking of early 2013, that has people talking but really that is just so far out says Mr. Mangaroo. “It’s really just an abstract concept at this point.”

Craig Alexander, chief economist with Toronto-Dominion Bank, says he can understand how there might be some fatigue from consumers hearing about rising rates.

“Unfortunately, we have been saying for years ‘that’s it, rates can’t go any lower than they are today’ and then they are [lower] 12 months later,” Mr. Alexander says.

But this time out, he says, it almost seems impossible that rates on a five-year closed mortgage could go lower than the current 3%. “Short of the Canadian economy going into a recession and causing the Bank of Canada to cut rates back to their all-time low, there really isn’t an environment that would lead to significantly lower mortgage rates,” Mr. Alexander says. “The downside here is extraordinarily limited.”

Experts worry over household debt

Copied from Canadian Mortgage Trends.

Improved Penalty Disclosures On The Way

• Obscuring penalty descriptions with legalese and vagueness
• Failing to provide understandable formulas for calculating prepayment charges
• Failing to provide consumers with easy access to the inputs (e.g., posted rates at origination, comparison rates, etc.) that must be plugged into the prepayment penalty formulas.

Indeed, the Financial Consumer Agency of Canada (FCAC) says it “has observed a significant increase in the number of complaints it has received related to mortgage prepayment penalties,” especially interest rate differential (IRD) charges.

That’s not surprising given that many mortgage “advisers” themselves don’t even understand them fully.

The FCAC has also found cases where lenders’ actual IRD charges are different from (presumably higher than) the charges disclosed to consumers.

In short, the FCAC says that some lenders’ disclosures “hinder consumers’ ability to decide on mortgage prepayment.”

Going forward, federally regulated financial institutions must disclose the following to borrowers:

1. The method (formula) for calculating the exact prepayment charge in language that is clear, simple and not misleading
2. Where the penalty formula is complex (e.g., uses present value), a simple way to estimate penalties
3. A description of all inputs used in the penalty formula (including things like posted rates at originations, future value, outstanding balance, all applicable interest rates, bond yields, etc.)
4. Information on how to obtain each of those formula inputs (or the actual values themselves)
5. An example and/or worksheet to help consumers figure out their own prepayment penalty

Federally regulated lenders must be in full compliance with the above by November 5, 2012. The Financial Consumer Agency of Canada will monitor that compliance on an ongoing basis.

In addition to better penalty disclosure, lenders must also provide the following to customers annually:

• A description of the borrower’s available prepayment privileges
• The dollar amount of available prepayment options
• Explanation of factors that could cause penalties to change
• Specific information needed for the borrower to calculate his/her own penalty (e.g., the rates used to calculate the penalty, balance, etc.)
• A list of all other fees for early repayment
• Contact information for lender staff knowledgeable about penalty calculations.

Upon request, the lender will have to furnish a written statement with the prepayment penalty (and other amounts) to be charged, with a full description of the formula used and the timeframe for which the penalty quote is valid.

Lender will also need to provide guidance on what triggers a penalty, how to avoid penalties, and how pay down principal quicker without incurring penalties.

And lastly (and here’s the best part in our view), lenders must post calculators on their pubic websites to help determine “reasonable” estimates of penalties. No more guestimators that spit out ballpark penalty quotes that are thousands of dollars off.

We don’t make a habit of celebrating government regulation, but this set of guidelines has been badly needed. Despite the lengthy implementation, the Finance Department and FCAC deserve a salute on this one.

Monday Morning Interest Rate Update (February 27, 2012)

• While measures of house price affordability have been decreasing of late, the BoC’s report shows that affordability levels today are still below their thirty-year average: “Despite increases in house prices, generally favourable labour market conditions (gains in real income) and low interest rates have supported affordability and contributed to significant increases in home ownership and mortgage debt.

Interesting point from a Bank of Montreal report last week: While average house prices have risen more quickly than nominal GDP (a proxy for average income levels) over the last ten years, the reverse was true in the prior ten years (when nominal GDP rose faster than house prices). I was surprised to see that when you look back over twenty years, nominal GDP and house prices have both grown by an average of 4.7%.   

• The BoC’s report makes clear that the U.S. housing bubble  was primarily caused by two factors:

1) A relaxation of mortgage underwriting standards. (At its peak, U.S. sub-prime borrowing accounted for 14% of outstanding mortgage borrowing versus 3% in Canada.)

2) Easier access to borrowing that was secured against home equity.

While I think we should be concerned about the effect that increased borrowing against home equity is having on our overall debt levels, the most widely reported statistic about Canadian debt-to-disposable income ratios being higher than they were in the U.S. at the peak of its housing bubble is actually quite misleading. A recent BMO report laid this comparison bare when it showed that Canadians can contribute much more of their disposable income to debt servicing because they do not have to cover substantial costs, such as healthcare, from their after-tax earnings (as Americans do). When BMO used a more apt comparison, debt-to-gross income, it showed that our debt levels are nowhere close to where U.S. levels peaked. Furthermore, even today, U.S. debt-to-gross income levels are substantially higher.

• The BoC’s report concludes that “the trend rise in Canadian house prices is associated with a growing population and income, which has increased demand, coupled with an upward-sloping long-run supply curve owing to the increasing scarcity of land for residential development, primarily in urban areas.”

In other words, the BoC still thinks our house price appreciation is supported by sound fundamentals.

Collateral versus Standard Charge Mortgages

Having children obviously has a tremendous impact on a person’s life and, perhaps also not surprisingly, changes the financial planning priorities of a young family.

Up until a child joins the family, most couples focus on eliminating debts, saving a little bit of a nest egg, and either putting aside some money to buy a home or paying down a mortgage.

But once children enter the picture, having enough money for post-secondary education – primarily through an RESP – should become the priority, financial experts say, outweighing things like retirement planning.

Under the registered education savings plan, money can accumulate tax-free and the government will provide a 20 per cent grant, to a maximum of $500, for each contribution up to $2,500 each year. Parents can contribute more than that amount to a plan, but will not receive additional funds from the government.

As much as $50,000 can be put into an RESP per child as they grow up.

The money can also be invested in any number of ways – from stocks to bonds — until it is withdrawn when a child attends college or university.

“There’s a 20 per cent return right there,” says Adrian Mastracci, a fee-only portfolio manager with KCM Wealth Management Inc. “It’s hard to pass up.”

Tuition costs soaring

Putting money aside is vitally important, because average annual tuition rates have increased dramatically over the past 20 years, from $1,271 in 1990 to $5,319 in 2010, according to figures from the Canadian Federation of Students.

Starting early also allows parents to invest more aggressively in equities to reap larger returns and ride out the current market turmoil, says John De Goey, vice-president and associate portfolio manager at Burgeonvest Bick Securities Ltd. in Toronto.

“I don’t think there has been any period in history when stocks didn’t go up over a 16-to-18 year time horizon,” he says.

However, as the child reaches the age of 10 or 11 – or if a parent is just beginning an RESP around this age – it is best to begin moving some of that money into more secure investments, because there is less time to make up for any market downturns.

As the child gets ever closer to enrolling in post-secondary education, it’s also important to keep some of those investments in something that can easily be converted to cash, says Mastracci.

Children do have to pay income tax on withdrawals from an RESP, but at that point in their lives they are usually in the lowest tax bracket and getting most, if not all, of their money back.

Back to mortgage, retirement

With education planning – hopefully — covered, parents then need to think about putting some money away for themselves.

“You’ve got to make your mortgage payments, but it’s good to do a little bit of saving for the retirement,” says Judith Fulton, a financial planner with the Calgary office of T.E. Wealth, “even if it’s a small amount.”

Investing early can yield big returns in the long term, thanks to the power of compound interest. And according to the same logic used for the RESP, a longer time frame means you can put some of your retirement savings into a more aggressive investment to aim for higher returns.

It is also important to make sure estate planning is in order and to maintain life, disability and critical illness insurance in the event that something unfortunate happens to one or both parents.

Budget

Apart from a worrying about a mortgage, retirement and education – as if that weren’t enough – parents should also continue to budget wisely to keep spending under control and to save as much as possible, De Goey says.

As parents gain seniority in their jobs and their salaries rise, they should re-evaluate their savings strategies. It’s easier to take the money from a raise and immediately start funneling it into investments than it is to do it later on when the couple’s habits have adjusted to a higher income.

De Goey recommends treating each raise as another savings vehicle. If you are getting by with the smaller salary, simply put most of it away and maintain your current lifestyle, apart from an increase to account for inflation and a small but reasonable addition to your own discretionary income.

There is no doubt that a young family faces a number of conflicting fiscal goals, but it’s really a matter of making the best of what you have to work with, De Goey says.

“We have finite resources and you have to learn to prioritize.”